Europe close: Slump in Chinese stocks and geopolitical tensions rattle investors

Heavy losses in China's stock market overnight and tensions between Iran and Saudi Arabia rattled already wary investors in the first day of trading of 2016.

The latest Chinese purchasing managers’ index from Caixin showed a drop to 48.2 in December from 48.6 the previous month, missing expectations for a jump to 48.9.

The Caixin PMI is a closely-watched gauge of nationwide manufacturing activity focusing on smaller and medium-sized companies that aren’t covered by the official data.

The figures combined with worries that major shareholders in Chinese companies will cut their positions after the ban on share sales and short selling which came into effect at the end of trading on Friday, precipitating a sharp fall in Chinese markets. The benchmark CSI 300 share index tanked 7%, sparking a trading halt for the rest of the day.

The trading halt marked China’s first ever use of the circuit-breaker mechanism, under which a 5% move in either direction from the CSI 300 index’s previous close sparks a 15-minute trade suspension across China’s stock indexes if it occurs before 14:45 local time.

At the close of trading the benchmark Stoxx Europe 600 index was down 2.5%, France’s CAC 40 was 2.37% weaker and Germany’s DAX had lost 4.28%.

The Stoxx 600 index for basic resources – demand for which is highly dependent on China – slumped 3.61% while the Oil&Gas subindex surrendered 1.48%.

“Anyone hitting the trading floor expecting a calm and quiet start to 2016 was given a rude surprise as Asian chaos affected European markets,” said Alastair McCaig, market analyst at IG.

“Worries over China’s ability to keep up its pace of economic growth have been hit with an early warning sign as the Caixin PMI data came in weaker than expected, and stretched the contraction in China to ten months.”

Data for the Eurozone was a little more encouraging, however.

Markit’s manufacturing sector purchasing managers’ index came in at 53.2 for December, up from 52.8 the previous month and a preliminary reading of 53.1.

This marked the highest reading since April 2014 and was the first time since then that all the national PMIs signalled growth, including in Greece.

“Although it remains below the levels reached during the previous recovery cycles in 2011/2012, the survey suggests that the business cycle is building momentum and it is likely to strengthen over the coming months,” said BNP Paribas.

Meanwhile, heightened geopolitical tensions added to the gloomy mood on Monday, as Saudi Arabia severed diplomatic ties with Iran after protestors stormed the Saudi embassy in Tehran on the previous Saturday evening following the execution of Shiite cleric Nimr al-Nimr. Fellow Gulf producer Bahrain also announced on Monday - alongside the United Arab Emirates and Sudan - that it would cut ties with Iran.

The news initially lifted oil prices on both sides of the Atlantic, although by the end of the day West Texas Intermediate and Brent crude futures were nursing losses of 1.26% and 0.6%, respectively.

On the corporate front, shares in Fiat Chrysler plummeted after the car maker spun off of its Ferrari division.

In London, pharmaceuticals company Shire was in the red following speculation it was close to completing a takeover of Baxalta Inc.

Bouygues bucked the trend, however, with the French conglomerate on the front foot after a media report Orange was moving closer to buying its telecoms arm.

US manufacturing data out later in the day did little to bolster sentiment.

The Institute for Supply Management’s manufacturing sector purchasing managers’ index dropped from a reading of 48.6 for November to 48.2 in December.

That was worse than the median forecast from economists for a rise to 49.1.

"This morning’s report, while weaker than expected, is consistent with our view that the US manufacturing sector is likely to trend slightly negative for some time as manufacturing continues to adjust to the strength in the dollar," was the verdict from Barclays's Rob Martins.